Lloyd Mexico Economic Report May 2002

PRUDENT FISCAL POLICY

Most analysts agree that the nation currently enjoys a stable economy with steady flows of foreign direct investment, a buoyant stock market, a strong currency and its highest ever foreign currency reserves. Given this investor confidence and the upbeat economic outlook, why then did the Fox administration announce last month a 1.12 billion dollars cut in public spending? The main reason is because it is a prudent and cautious response to lower-than-expected oil-export revenues and tax collections at the start of the year. Maintaining a tight fiscal policy will keep the public-sector fiscal deficit below 0.65% of GDP this year, compared with 0.73% in 2001, and will help keep inflation to 4.7% over the year as a whole. The recent rise in oil prices will contribute an additional 760 million dollars to government coffers, allowing them to spend more than originally budgeted in the next quarter.

BRADY BONDS REPAID EARLY

Mexico has repaid the final 153 million dollar installment on its Brady bonds 17 years prior to their original expiry date of 2019. The bonds were part of a major restructuring of the foreign debt of several countries back in 1990 when Nicolas Brady was the U.S. Treasury Secretary. Brady commented recently that "the hard work that Mexico did is reflected in the success we see now". Emphasizing that the success of a country depends in large measure on the strength of its banks, Brady described Mexico as "one of the most future-orientated countries with which I have the pleasure to work".

IMPORT AND EXPORT TAX LAW

A new Import and Export Tax Law took effect last month. Companies involved in international commerce now pay a modest fee (about 18 dollars) for each purchase or sale made. The law brings Mexico's product designations in line with the system of harmonized codes for the designation of merchandise administered by the World Customs Organization. This system is used in about 170 countries and for about 97% of all world trade. This means that the 6-digit codes used previously are replaced by new 8-digit codes. The number of product subdivisions is raised from 5,300 to more than 11,000. Some representatives of manufacturing industry are unhappy at the additional fees, but the changes are an essential first step in the modernization of the nation's customs infrastructure and procedures. Mexico's foreign trade is worth about 300 billion dollars a year.

EXPANDING LIGHT CRUDE PRODUCTION

In 1995, light crude accounted for 53% of total crude oil production. Since then, the proportion has been steadily declining to its present level of about 34%. The main reason was the heavy emphasis placed by Petróleos Mexicanos (Pemex) in recent years on developing the Cantarell field, a major producer of heavy crude. Over the next 5 years, however, Pemex will invest 42 billion dollars in expanding its production capacity for light crude from its current level of 1.13 mb/d (million barrels per day) to 1.6 mb/d by 2006. Given a projected total crude oil production of 4 mb/d in 2006 (compared with 3.1 mb/d at present), this would boost the proportion of light crude to 40%.

NEW GAS TERMINAL IN BAJA

Shell Gas & Power, a subsidiary of U.K.-based Shell, is building a new "regasification" terminal for liquid natural gas (LNG) in Baja California. The plant will enable Shell to sell gas to energy plants and other potential users in both Baja California and the southern part of California. In the first phase, the plant will require 7.5 million metric tons of LNG a year, which will be supplied by tanker from projects in Asia. Costing an estimated 500 million dollars, and due to come on stream by 2006, the plant will have the capacity to supply up to 1.3 bcf/d (billion cubic feet per day). RELATED NEWS Demand for natural gas is rising very rapidly. The Burgos Project, begun in 1994, enabled production to be increased from 3.625 bcf/d to 4.5 bcf/d. Pemex already has projects in the pipeline which should raise this figure to 6.9 bcf/d by 2006.

CELLPHONE ACQUISITION

Telefónica Móvil, a subsidiary of Telefónica, the multinational Spanish telecommunications firm, has bought a controlling 65% stake in Mexican cellphone company Pegaso from its previous owners Leap Wireless International for 70.5 million dollars. Last year, Telefónica bought four small northern Mexico cellphone companies (Bajacel, Movitel, Norcel and Cedetel) from Motorola.

The latest acquisition vaults Telefónica Móvil into second spot in the cellphone market with a customer base of 2 million clients, ahead of Iusacell, but well behind the leader, Telcel. Telcel is a division of America Móvil, which was spun off from Teléfonos de México (Telmex) in 2000. The Mexican mobile phone market has grown twenty-fold in five years to 21 million users and 5.5 billion dollars in revenue. Telefónica Móvil's latest goal is to reach 6 million subscribers in Mexico by 2005.

COMPETITIVE INVESTMENT FUNDS

Many more international investment funds are expected to invest in Mexico following S&P's decision earlier this year to raise Mexico's sovereign debt rating to investment grade status. Some of the funds will probably enter the market by acquiring existing small domestic fund operators. According to Thomas Ciampi, director of Latin Asset Management, smaller companies will find it increasingly difficult to compete. He suggests that even banks, which currently offer only their own in-house funds, will have to reposition themselves, perhaps by offering a range of third-party products. In this scenario, fund returns will assume greater significance in the eyes of investors than the history of the institution offering them. Investors can also expect to see more intensive advertising for the different funds available.

DAYLIGHT SAVINGS: A CLEANER TIME

All of Mexico, except the northern state of Sonora, is now on Daylight Savings Time. According to the Energy Secretariat, adjusting the clock for the past 5 years has significantly reduced energy demand, translating into savings of some 3.7 billion dollars. The Secretariat also points out that the decreased energy consumption means less fossil fuels have to be burned in power stations, sparing the atmosphere from some 11,000 tons of contaminants.

MORE HOME DEPOT STORES IN MEXICO

Earlier this year, U.S.-based Home Depot, the world's largest chain of home improvement centers with 1,359 outlets in North America, bought the four-store Del Norte chain in the border city of Ciudad Juarez, Chihuahua, to add to its small but growing number of stores in Mexico. Last year, the company entered the domestic market for the first time by buying Total Home's four stores in Monterrey and Mexico City. Next on the company's agenda is the construction of new stores in the border cities of Mexicali and Tijuana, due to open by the end of the year.

BANKING FOR LOW INCOME EARNERS...

According to Javier Gabito, director of the National Savings and Financial Services Bank, 35% of the economically active population in the country has no access to any kind of conventional bank account. This highlights the need for the development of community-based organizations such as savings and credit unions to complement the commercial banks. It also suggests that the niche targeted by Grupo Elektra, Latin America's largest specialty retailer, might prove to be a highly profitable one.

Grupo Elektra received authorization last month to launch Mexico's first new bank for 8 years, Banco Azteca, with an initial capital of 25 million dollars. Unlike its competitors, Banco Azteca will focus on providing small full service bank branches in 220 cities, locating them all inside Grupo Elektra's 900 existing stores in the Elektra, Salinas y Rocha, The One and Bodega de Remates chains. Elektra will seek to serve the same low-income earners who have already been attracted to its consumer credit plans. One of the few competitors Elektra will have in this niche market is Credito Familiar, a low-income lender created in 1996 and controlled by Citigroup.

AND FOR HIGH INCOME EARNERS...

Banking sector analysts estimate that 2.5 million people, 48% of Internet users in Mexico, will be using online services for at least some of their banking needs by the end of this year. The growing trend to use Internet banking is because it offers the major advantages of being both faster and cheaper than branch-based banking. Most of the major banks already offer e-service.

The new inter-bank settlement system introduced earlier this year will enable the expansion of e-service to cover most inter-bank transfers, including bill payments and on-line purchasing. The growth of on-line banking should save commercial banks millions of dollars. In the U.S., for instance, it has been calculated that the cost of each full service in-branch transaction is 1.07 dollars, compared with 54 cents for telephone banking, 27 cents for an ATM, and just 1 cent for an Internet-based service.

Given the potential for on-line banking, it is not surprising that ING, the Dutch financial group and specialists in direct "no-branch" Internet-based banking, should have confirmed the purchase of a 20% stake in Banco Bital, Mexico's fifth largest bank. ING and Bital established one of country's largest pension funds, Afore Bital, in 1997. The 200 million dollars that ING now brings to Bital may well be used, in part, to expand its on-line services.

COURIER COMPANY EXPANDS INTO U.S.

In order to replace reliance on rival courier companies, Estafeta, Mexico's leading air courier service, has begun its own service to the southern U.S. Its first international shipping routes unite Mexico City, San Luis Potosí and Merida with Miami, by means of four weekly flights, each with a capacity of 14.5 metric tons. In the domestic market, Estafeta's network of offices and collection points, served by 1,500 delivery vehicles and 14 planes, is unrivaled. The company expects its air cargo business to grow by 50% this year and anticipates 15% growth for its courier and parcel division.

GENDER EQUALITY?

The National Statistics Institute (INEGI) recently released a report on the situation of women in Mexico. While only 11.1% of the 758 Senators elected over the past 35 years have been women, the report emphasizes that the situation is improving, with the participation of women in the Senate and Chamber of Deputies increasing rapidly from 3.4% in 1970 to 15.6% in 2002.

In a detailed examination of fertility rates, the report says that the average Mexican woman now has 2.4 children, down from a figure of 3.0 six years ago. However, women who have received little or no formal education have twice as many children as the national average. Women are also at a disadvantage in terms of education. INEGI figures show that one out of every nine women is illiterate, compared with only one out of every 13 men. Adding to women?s problems is salary differentiation. According to the report, men receive, on average, 11% more pay than their female counterparts for the same job.

RESOLVING FOOD TRADE DISPUTES

Agricultural trade between Mexico and the U.S. is worth about 13 billion dollars a year and the trading of various agricultural goods, such as corn-based sweeteners and avocados, has given rise to several trade disputes between the two countries in recent years. As the U.S. Ambassador to Mexico Jeffrey Davidow recently put it, "farm products make up 5% of trade and 50% of trade disputes". Now, the two nations have agreed to form a binational Consultative Committee on Agriculture (CCA) which, it is hoped, will rapidly resolve any future food trade issues.

Next year, tariffs will be eliminated on all farm products traded between the two countries, except for sugar, corn and milk, which become tariff-free in 2008. Topics of discussion for the CCA next year may well include U.S. imports of pork and poultry and the thorny issue of the subsidies that the U.S. administration gives to its farmers.

The text of this report was not submitted to any Federal Mexican Authorities or approved by them prior to publication. In preparing it, we have done our own research, using sources we believe to be reliable. However, we do not guarantee its accuracy. Neither the information contained herein nor the opinions expressed, constitute a solicitation by us of the purchase of any security.